The Curve Ahead

A Monthly on the Indian Economy and Consumer Markets
5th April 2011
Indian Economy Next Quarter
Inflationary pressures widespread across economy
Manufacturing products inflation to move up to 6-7% level in Q1
RBI under pressure to continue rate hikes to counter inflation concerns
Growth on a high momentum, but will be derailed if RBI pushes rates too hard
Rupee to hold its strength with strong export performance and capital inflows
India : Kal, aaj aur kal

Inflation, inflation, inflation ? the bugbear refuses to go away. The RBI raised its WPI estimate to 8% for March, up a percentage point since its last estimate in January. Recall the first estimate for March end inflation given last April was actually 5.5%, so even though inflation has declined over the past year, the fall has not panned out as anticipated. This has largely been due to inflation in primary articles, first in food articles and now in non-food, and these pressures will continue.

Our other investigations show that price increases are spreading in multifarious ways across the economy ? and perhaps more so in the unorganized sector than in the organized one. Wages are rising for semi-skilled and skilled workers far above the NREGA norms, growth in eastern India has reduced availability of unskilled labour, real-estate prices are on the uptrend across rural and small town India. Profitability will take a hit at least for the next couple of quarters.

The recent up-tick in inflation in manufactured products is therefore expected to continue over the next quarter to peak around 6-7% by June and then stabilise about a percentage point lower by the year end. These estimates of course depend critically on how fuel and commodity prices move. Looking at the crude trend, the unrest in the Middle East has already pushed prices up by around $15 a barrel and while it is acknowledged as a short term phenomenon, it is not clear how long this ?short term? will last. China and India have again been held to account for the rise in input prices with strong growth. Both countries have upbeat reports from the PMI survey, which for March shows continued flow of new orders, and more so in India. Both countries have been raising rates at a moderate pace as growth has taken precedence over inflation, but this stance could change by June - while inflation in China has recently steadied, pressures continue to reign in India.

Over and above the inflation concerns are the growth concerns. What is the central bank to do? This is a tough call for the RBI as over-reacting would impact the growth sweet-spot that India is in. Our advice to the RBI would therefore be to restrain itself in rate increases for the coming few months even if international commodity inflation rises by a few percentage points. To put it in another way, if the government does act by its promises in the budget of reining in expenditures, increasing interest rates and tightening liquidity can impact growth and growth expectations more adversely than in the past, or is desirable.

There are other issues to address as well. If we look at the credit side, the rate hikes so far have not dampened the spirit of consumers or producers. According to the latest provisional RBI data for February, credit flows in all segments, except agriculture have grown at a faster rate than the previous year. Yet, there is cause for concern, unlike other segments, credit to agriculture and SMEs are not gaining in growth. Clearly, structural issues in access to credit continue to bog these two sectors down and this inequality in access should be dealt with urgently. The point being made here is that we should not be carried away by the 9+ growth path in India, a sustained growth path with equitable distribution of benefits calls for more than just multiple welfare schemes.

In other words, what is needed is more action from the government; to take just two points, it would do well if it kick-starts the delayed mining projects and enables inter-state agriculture trade. Moves like these will do far more for growth and inflation in the long term and are already long overdue. Welfare and financial inclusion initiatives may be well and good, but they cannot by themselves get us to the impressive objectives we have set ourselves.

P.S. Indicus is pleased to announce the launch of its Centre for Financial Inclusion, with support from the Bill and Melinda Gates Foundation.

Sumita Kale and Laveesh Bhandari

5th April 2011, Indicus Analytics

Sumita Kale is Chief Economist, and Laveesh Bhandari is Director, Indicus Analytics. They can be contacted at sumita@indicus.net and laveesh@indicus.net

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Economic Growth
Provisional IIP growth estimate for January was 3.7%, higher than December, this estimate should be taken in the backdrop of 16.8% last January.
In February, six core industries grew by 6.68% compared to 4.2% growth last year. Crude oil and steel were the best performers at 12.2% and 11.5% respectively. Coal production dropped by 5.7%. For the period April-February, coal has been the worse performer, growing by a meagre 0.1% over the previous year.
HSBC PMI for manufacturing stayed at 57.1 in March, same as the previous month, with the quickest growth in new orders since August 2008.
The HSBC Markit Business Activity Index which tracks the service sector showed a marginal dip to 58.8 in March from the seven-month high of 60.2 in February.
Electricity generation in March grew by a provisional estimate of 8.02%.
Area sown with rabi crop till 25th March was higher than normal by 9.5%, pointing to good harvest ahead.
Vehicle sales momentum continued unabated in March, domestic sales for Maruti rose 39% over the previous year, though exports fell by 26%, Tata Motors? domestic sales rose by 9%, tractor sales by Mahindra rose 25% and Hero Honda?s monthly sales crossed the 500,000 mark for the second time in a year.
Over the period April 2010-February 2011, freight earnings by railways rose by 7.76%, with Net Tonne Kilo Meters going up by 3.75%.
Naukri Jobspeak hiring index shows strong growth with auto and IT/ITES registering the highest increases amongst all sectors in March over the previous year.
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Inflation
WPI inflation for February was provisionally estimated at 8.31%. More important is the upward revision in December estimates from 8.43% to 9.41%.
While inflation in Food Articles fell to 10.65% yoy from the 15.65% estimated for January, prices of fibres rose by 15.73% in February over the previous month, bringing yoy inflation to 72.46%.
Manufactured products inflation rose to 4.94% in February compared to 3.75% in January.
Latest weekly reports show the high inflation in the fuel and power category, running in the 12-13% range through March.
Consumer price indices fell in February, inflation for CPI IW stood at 8.82% and for CPI AL stood at 8.55%.
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Interest Rates
In its March policy review, RBI raised the repo and reverse repo rate by 25 bps to stand at 6.75% and 5.75% respectively.
Yield on the 10 year gilt benchmark averaged at 7.925% in March, below the 8.010% level in February.
While China raised its rates by 25 bps on 5th April, the ECB is expected to raise its rates for the first time since 2008, signalling the return of inflation concerns over growth worldwide.
Inflationary pressures will dominate the RBI stance and though moderate rate hikes of 25 bps are expected to continue till June, a tighter regime may come into play if inflation in manufactured products persists in higher levels.
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Exchange Rates
Exports during February were estimated at $ 23.597 billion, 49.7 % higher in $ terms (46.9 % higher in rupee terms) than the previous year. Imports during February were estimated at $ 31.701 billion, 21.2 % higher in $ terms (18.8 % in rupee terms) over last year.
Oil imports during February were valued at $ 8.219 billion, 0.3 % lower than last year while non-oil imports estimated at $ 23.482 billion was 31.0 % higher than last year.
The trade deficit for April ? February 2010-11 was estimated at $ 97.069 billion, lower than the deficit of $100.249 billion during the corresponding period the previous year.
The rupee strengthened marginally in March over the previous month, with an average value of 44.99 to the dollar, moving in the range of 44.65-45.27.
Read: Rising exports may cushion rupee against high crude prices
Read: Rupee gain below 44.35/$ unsustainable: IndusInd Bank
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